Common Stocks and Uncommon Profits

This microbook is a summary/original review based on the book:Common Stocks and Uncommon Profits and Other Writings

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ISBN:0471445509

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Summary

There may have been several more successful investors than Philip Arthur Fisher, but it is not an exaggeration to say that barely anyone – except for Benjamin Graham – can be deemed more influential. And that status Fisher owes to a single book: his 1958 definitive guide to investing, “Common Stocks and Uncommon Profits.”

So, get ready to learn how to invest properly with one of the modern apostles of investment and find out how to devise a risk-averse and timeproof investment philosophy so that you can set yourself on a path toward a calm and stable financial future.

What is “scuttlebutt” and what it can do

As Morningstar’s researchers wrote several years ago, “Fisher’s investment philosophy can be summarized in a single sentence: purchase and hold for the long term a concentrated portfolio of outstanding companies with compelling growth prospects that you understand very well.” Clear on its face, the sentence does beg a few questions, such as “what exactly to buy” and “for how long you should hold,” but arguably the most important among them is the following: “how should one uncover these ‘outstanding companies’ with compelling growth prospects?” So, let’s start with that one.

It seems only reasonable that analyzing statistics or ratios should be the way to go. Finding someone sufficiently skilled in all the various facets of management and examining together each subdivision of a company’s organization before investing in it, might sound like an even more sensible strategy – especially for the ones that are not that versed in the esoteric sciences of the numbers. Neither way is the best one, says Fisher, pointing out that the latter is very impractical and implying that stats automatically distance you from all those young trailblazing companies whose “sensational future" cannot be backed by data in their early stages. So, what’s the alternative? Believe it or not, it’s the “scuttlebutt.”

Yup, we’re talking about the rumors, the gossip, the hearsay – but, in a slightly more specialized and more focused manner. In Fisher’s dictionary, “scuttlebutt” refers to the information gathered via informal discussions with the customers, suppliers, and competitors of your firm of interest. Exploit the business “grapevine” in all matters conceivable. If you have access to the firm’s researchers, talk to them as well and don’t discount the opinions of former staffers: though necessarily subjective, they might reveal some problems covered up by the higher echelons or lie hidden from view. In time, a remarkably consistent image for the company should emerge from these discussions. And if it doesn’t – well, then, by definition, something must be wrong.

What to buy: the 15 points to look for in a common stock

There are 15 points with which Fisher believes investors should concern themselves when deciding what to buy and what not to – no more, no less. First devised in 1958, Fisher’s 15 points have stood the test of time and, fascinatingly, remain as relevant today as they were 60 years ago. Intended to weed out companies that lack the substance needed to provide an investor with a productive return on investment, all of them are presented as questions to make the decision-making process easier and more straightforward.

Does the company have products or services with sufficient market potential to make possible a sizable increase in sales for at least several years? For example, investing in any TV company in the 1960s was the wrong way to go, since 9 out of 10 U.S. households had television sets at the time. Only a company with products addressing large and expanding markets is worth the investment because that company should be capable of sustaining a period of spectacular growth.

Does the management have a determination to continue to develop products or processes that will still further increase total sales potentials when the growth potentials of currently attractive product lines have largely been exploited? Since markets naturally tend to saturation, to maintain above-average growth over a long period, a company must be led by senior managers with forward-looking “affirmative attitude” that prefer experimenting and innovation to tradition and low-risk changes.

How effective are the company's research-and-development efforts concerning its size? The greater the ratio, the better: good companies always invest large sums of money in research and development.

Does the company have an above-average sales organization? “Without sales,” writes Fisher, “survival is impossible.” So, if you want to invest in a company, don’t make the mistake of ignoring its marketing capabilities.

Does the company have a worthwhile profit margin? A company’s growth means little to investors if it doesn’t encompass worthwhile profits as a reward.

What is the company doing to maintain or improve profit margins? According to Fisher, “it is not the profit margin of the past, but those of the future that are basically important to the investor.” So, take heed of inflation and seek out firms that want to improve their scale, efficiency, and profit margins.

Does the company have outstanding labor and personnel relations? A company is only as good as its workers are happy: one that doesn’t pay them well might experience labor issues in the future that will quickly devaluate its stock.

Does the company have outstanding executive relations? Look for companies that promote from within and turn a blind eye to firms where founding families have retained control over exceedingly long spans.

Does the company have depth to its management? Avoid companies reluctant to delegate authority to lower-level managers: they are susceptible to developing the “key man” syndrome, that is to say, they might become too dependent on one individual. But what will happen with your stocks if that person suddenly decides to leave the company?

How good are the company’s cost analysis and accounting controls? It is difficult to get an exact handle on a company’s cost analysis, but an investor should use the “scuttlebutt” technique to unearth perceived lapses in a firm’s expenses. A company won’t be able to deliver long-term results if it is unable to track its costs closely and correctly.

Are there other aspects of the business, somewhat peculiar to the industry involved, which will give the investor important clues as to how outstanding the company may be in relation to its competition? This is why you should only invest in industries that you understand: it is of vital importance for an investor to know the precise industry factors that might determine the future success of a company. This way, they can compare such companies to the competitive advantages of its rivals.

Does the company have a short-range or long-range outlook in regards to profits? Short-range view on profits might be beneficial to all those high-adrenaline investors, but only organizations that sacrifice current gains for future growth are worth considering for the long run.

In the foreseeable future will the growth of the company require sufficient equity financing so that the larger number of shares then outstanding will largely cancel the existing stockholders' benefit from this anticipated growth? If the company you’re interested in needs to raise equity shortly, your shares might dilute. So, it’s smartest to buy stocks in a company that you know can finance its growth on itself – due to sufficient reserve funds or timeproof borrowing capacity.

Does management talk freely to investors about its affairs when things are going well but "clam up" when troubles and disappointments occur? Avoid companies that don’t share the truth with their investors in times of crisis. Because, well, they will inevitably come.

Does the company have a management of unquestionable integrity? “Regardless of how high the rating may be in all other matters,” writes Fisher, “if there is a serious question of the lack of a strong management sense of trusteeship for stockholders, the investor should never seriously consider participating in such an enterprise.” Think Enron. Or, rather, don’t forget about it.

The 10 don’ts for investors

In addition to the 15 do’s, Fisher offers a list of 10 don’ts for investors, exposing some common mistakes made by inexperienced stock-pickers and shareholders.

Don’t buy into promotional companies. There is a difference between an unproven startup and a promising company. It’s called time: avoid companies that haven’t enjoyed “at least two or three years of commercial operation and one year of operating profit.”

Don’t ignore a good stock just because it is traded ‘over the counter.’ The marketability of stock shouldn’t affect your judgment.

Don’t buy based on the annual report. Annual reports are usually promotional pieces written by PR managers. Don’t trust them.

Don’t assume a lack of upside because of a stock’s high P/E. “Don’t assume that the high price at which a stock may be selling in relation to earnings is necessarily an indication that further growth in those earnings has largely been already discounted in the price.”

Don’t quibble over eighths and quarters. When your “scuttlebutt” research says that a stock is the right one, buy it immediately: don’t wait for that “magic price” that might never arrive.

Don’t overstress diversification. True, it might not be a good idea to put all your eggs in one basket, but it is even less smart to invest in 50 businesses: there’s no way you can learn enough about all of them to make adequate assessments about their prospects.

Don’t be afraid of buying on a war scare. Even though threats of wars affect most stocks quite negatively, these never rebound as powerfully as after the ceasing of hostilities. And in modern times, most war scares are bound to end not with a bang – but with a whimper.

Don’t forget your Gilbert and Sullivan. “The flowers that bloom in the spring,” sings Ko-Ko in Gilbert and Sullivan’s “Mikado,” “have nothing to do with the case.” Shares are similar: past performance is not indicative of future results. So, pay little attention to information of this kind – and related false knowledge.

Don’t fail to consider time as well as price in buying a true growth stock. Some company actions might temporarily drop the price of a promising share. If you’ve already bought – don’t sell. If not – buy only when these effects are inevitably discounted.

Don’t follow the crowd. Markets are not rational. They are not even merely volatile: markets are downright mad! After all, they are made of human beings, and human beings make mistakes. In crowds, they make big mistakes. So, avoid the herd mentality and all the get-rich fads and styles out there. Stick to the “scuttlebutt” and the 15 points. And stay conservative.

The 4 dimensions of a conservative investment

For Fisher, the difference between speculative and conservative investors is rather simple: the latter sleep well. And they can experience this luxury that is “calm dreams” because, via the 15 points, they are able to evaluate the company they want to invest in from at least four different all-important angles. Fisher calls these “the four dimensions of a conservative investment:”

Marketing. The company considered by conservative investors must have evident superiority in “production, marketing, research, and financial skills.”

People. There must also be evidence of committed management and good leadership, as well as all-around positive company culture.

Uniqueness. It’s not only the company that is attractive in a conservative investment – but it’s also that, in the words of Fisher, within the nature of the company’s business itself “there are certain inherent characteristics that make possible an above average profitability for as long as can be foreseen in the future.

Valuation. The final dimension is all about whether the price of the stock is sensible in the context of its relative prospects – as derived from the first three dimensions.

According to Fisher, the risk of an investment is the result of the relationship between the first three dimensions and the fourth dimension. Naturally, the lower it is, the more sensible the investment and the more guaranteed the profits in the long run.

Final Notes

Just recently, at the 2018 Berkshire Hathaway annual shareholders meeting, Warren Buffett, the outstanding Oracle of Omaha, described Fisher’s magnum opus as a “very very good book,” reserving special words of praise for his “scuttlebutt” technique. Moreover, many have described Buffett’s stock-picking methods as a combination of Benjamin Graham’s value investing and Philip Fisher’s 15 pointers.

So, there you have it: if you want to invest like Buffett, read Fisher. “A thorough understanding of the business, obtained by using Phil’s techniques,” says Buffett himself, “enables one to make intelligent investment commitments."

12min Tip

Stock investment is about more than just buying and selling the right stocks at the right time. In many ways, emotional poise can be as valuable as a wise portfolio manager because it can help you earn a more productive return on investment when other investors are scared away by temporary losses.

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Who wrote the book?

Widely recognized as one of the most influential American stock investors, Philip Arthur Fisher started his money management company, Fisher & Co., in 1931, working only with a carefully selected number of people....
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